Professional Documents
Culture Documents
LIABILITIES
Reserves of comm banks
Comm banks must hold a certain % of their deposits as reserves at the CB
Treasury Deposits
The National Treasury keeps deposits at the CB. (the government’s bank is
CB)
The money comes from taxes, selling bonds, borrowings.
1. Open-Market Operations
~Buying and selling of government bonds from SARB, comm banks and public
To Read: there is no difference in the amount of impact on money supply, fig 15.1
To Comm Banks:
SARB sells bonds to comm banks
Comm banks pay for bonds by decreasing their reserves (they draw cheques that
↓ their deposits)
Fewer loans can be available
⇒ Money supply decreases
To the Public
SARB sells to public
Public pays by cheque drawn from comm bank
Deposits ↓ ⇒ reserves ↓
⇒ Money supply decreases
Example 1:
Suppose that SARB buys R5000 in government bonds.
The reserve ratio is 10%.
What is the net impact of the money supply if the bonds are bought by commercial
banks only?
A:
Money multiplier = 1/0.1 = 10
Comm banks have additional R5000 in excess reserves
Max deposit creation
= 5000 × 10
= 50 000
Example 2:
Suppose now that the bonds are bought from the public.
a) What is the new change in the comm banks excess reserves?
b) Calculate the change in money supply
A:
a) Banks receive R5000 in deposits from the public.
They require 0.1 × 5000 = R500 in required reserves.
They have 5000 -500 = R4500 in excess reserves.
= R50 000
2. Reserve Ratio
Example 3
SARB changes the reserve ratio from 10% to 15%.
What is the change in money supply if comm banks have R10 000 in deposits, R 20
000 in actual reserves? Assume: comm. banks are using all of their excess reserves to
provide loans.
A: Initially:
Required reserves:
10 000 × 0.1
=R1000
Excess Reserves
= 20 000 – 1000
= R19 000
Excess Reserves:
= 20 000 – 1 500
=R18 500
SARB charges the repo rate for loans given to comm banks.
Comm banks borrow from SARB
cost of borrowing increases because the comm bank has to pay more for the
loan
Comm banks take out fewer loans from SARB
Comm banks receive less additional reserves
Loan out less
⇒ Money supply decreases
cost of borrowing decreases because the comm bank has to pay less for the loan
Comm banks take out more loans from SARB
Comm banks receive more additional reserves
Loan out more
Example 4:
Suppose the Bank A can pay R500 for its initial installment to SARB. This amounts to
a loan of R6250 from SARB at the repo rate of 8%.
SARB now increases the repo rate to 8.5%. What loan can Bank A afford at the same
payment of R500?
A:
x × 0.085 = 500
500
x=
0.085
= R5882.35 (< R6250)
In time of too much spending and too high increases in inflation rate SARB can do the
following:
Sell securities
Increase the reserve ratio
Increase the discount rate
Exercise 1
SARB has decided to buy bond from comm banks and the public:
a) What type of monetary policy is this?
b) Explain how buying of bonds will affect the money supply?
c) How does aggregate supply change?
d) What is the resultant change in GDP and the price level?
Money Market
Sm
i0
Dm
M0 Money
6
Investment
i0
I0 I
Equilibrium GDP
P AS
AD
P0
GDP
Q0
7
S0 S1
i0
i1
Dm
Money
M0 M1
i0
i1
I
I0 I1
8
Price level stays the same or rises depending on where the economy
was before the change.
P
AS
P1
P0
AD1
AD0
Q1
Q0 GDP
Exercise 1: Draw the relevant curves to show the impact of GDP caused by a tight
monetary policy application.
9
The most popular tool being used is the repo (discount) rate
Read: The Focus on the Fed Fund Rate
Lags
It takes a while to recognize what the economic changes are (recession or
inflation increasing/decreasing)
Once SARB acts on the findings, it takes time for the impacts to spread
through the economy.
e.g. SARB increases the repo rate but investment only decreases after a few
months.
Changes in Velocity
Velocity: the number of times a rand is spent on goods and services in the
economy per year
Higher velocities tend to increase inflation
Example 5
If money supply is R25 000 and velocity of money is 5, what is the expenditure?
A: expenditure = 25 000 × 5
= R125 000
Problem: Velocity can move opposite to the changes in the money supply – making
the monetary policy less effective.
Eg. A tight monetary policy restricts the money supply, but velocity may increase.
Inflation does not decrease to the level as expected.
Cyclical Asymmetry
Monetary policy can be more effective in controlling inflation and slowing
expansion but is not as effective for an easy money policy.